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Actavis, Inc. (ACT - Analyst Report) recently announced its intention to acquire Warner Chilcott plc in a stock-for-stock transaction worth about $8.5 billion. This includes the assumption of Warner Chilcott’s net debt of $3.4 billion.

The successful completion of this deal will lead to the creation of a leading global specialty pharmaceutical company with combined annual revenues of about $11 billion. The combined company will hold the third position in the US specialty pharmaceutical market with annual revenues of about $3 billion.

The deal is expected to close by the end of this year. The two companies will be combined to form a new company domiciled in Ireland where Warner Chilcott is currently incorporated.

Financial Details

Warner Chilcott shareholders will receive 0.160 shares of the new company for each share owned by them. This comes to about $20.08 per Warner Chilcott share, representing a 34% premium to Warner Chilcott's closing share price ($15.01) on May 9, 2013, a day before Warner Chilcott disclosed its merger plans with Actavis.

Meanwhile, Actavis shareholders will receive one share in the new company for each Actavis share owned by them. Once the deal closes, about 23% of the new company will be owned by Warner Chilcott shareholders. The new company, to be called Actavis plc,  will continue to trade on the New York Stock Exchange under the ticker symbol ACT.

Immediately Accretive

The Warner Chilcott acquisition will help strengthen Actavis’ position in the women’s health (eight products) and urology (six marketed products) segments. The company will also gain a presence in the gastroenterology (two marketed products) and dermatology (one marketed product and a new product launch slated for Jul 2013) markets.

Moreover, Actavis will gain a pipeline of 25 candidates include 15 targeting the women’s health market.

Once the new company is formed, specialty brand sales are expected to account for 25% of 2013 sales, up from the current 7% contribution (stand-alone Actavis). The deal is expected to be accretive to Actavis’ 2014 earnings per share by more than 30%. The company expects to achieve post-tax operational synergies and related cost reductions and tax savings of more than $400 million. While a major part of these savings will be realized next year, the full effect will be achieved in 2015.

The combined company’s tax rate is expected to be about 17%, well below stand-alone Actavis’ expected effective 2013 tax rate of 27% - 29%.

Our Take

We are positive on this deal which makes strategic and financial sense. The deal is expected to be immediately accretive. Moreover, it will provide strong operating cash flow and allow Actavis to de-lever its balance sheet. The tax rate will also be significantly below current levels.

Currently, both Actavis and Warner Chilcott are Zacks Rank #3 (Hold) stocks. Shares of both companies reacted positively to the acquisition news.

Companies that currently look well-positioned include Salix Pharmaceuticals, Ltd. (SLXP - Analyst Report) and Santarus, Inc. . Both are Zacks Rank #1 (Strong Buy) stocks.

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